Spitznagel is, at least in my opinion, the closest thing to a genius we have in the financial world, which is why I heed his warning.
To me, the question isn’t whether stocks will drop, but when. To see this, let’s go back to the last two crashes, which I and dozens of others not only predicted but stayed away from.
The great tech bubble of 2000.
The irony of the 2000 bubble was that it was so easy to predict on so many fronts.
First there was the econo idiot Alan Greenspan’s prediction of the now infamous Y2K problem. The people who listened to Greenspan should have been institutionalized. I spoke to dozens of engineers, having been one myself, and few people thought the world was going to end because the world’s computers would not work 1 second after midnight.
But secondly, and more importantly, the bubble was so narrow. It was concentrated in 20 tech companies that were all in a mutual fund called Janus 20. At one point, 70% of all new money going into stock funds was going into the Janus 20.
To give you an indication how weird it was, Janus wasn’t owned by a bank or financial institution. It was owned by a RAILROAD, Kansas City southern, better known as the NAFTA express.
Finally, many of the companies the railroad was investing in had no earnings and some almost no SALES!
Amazingly, Kansas City southern sold its mutual funds before the crash and became the one of the best investments in the S&P 500 as railroad shares skyrocketed! JDS Uniphase, a Janus 20 stock lost 99% of its value falling from $153 to $1.50.
The bubble “nobody” could predict in 2008.
The fact was there were HUNDREDS of nobodies. Unfortunately, very few were trained economists working at financial institutions. (They were probably baristas at Starbucks which is where you land if you’re smart and don’t kiss enough CEO ass.)
Certain things might have caused a bit of consternation, such as oil hitting $140 a barrel, natural gas hitting $12/1,000 cubic feet, and soybeans at $15 a bushel. It’s hard times when Chinese takeout charges a soy sauce fee.
There were other small indicators though. The average person couldn’t afford the average house. That’s usually a giveaway.
What was behind the curtain was more dubious. Without going into geekish detail, it had to do with companies (GM, and others) taking on massive interest rate risk that they didn’t have the capital to back. I had a wife and two young daughters when the great savant Jim Cramer proclaimed that GM, a company I heavily shorted had “a great balance sheet.” Having negative equity as a “great balance sheet” is a secret to just a few financial geniuses.
But this is the kind of bullshit you read in bubbles, especially when your livelihood is centered on selling ad space to mutual funds.
What’s new this time? A good example is TESLA.
Tesla is basically a car for yuppies. I know this because my company processes hundreds of tax returns many with the EV credit and they’re ALL yuppies. They have little if any financial sense and know nothing about cars.
The problem with owning a Tesla is that it’s an impractical car. Like BMW and high-end Mercedes, it’s expensive, not particularly versatile and depreciates very quickly. Electric cars are not particularly complicated. Telsa’s are expensive because they are packed with self driving and driver assist electronics that frankly, nobody needs. Like BMW, the people who buy Tesla’s don’t buy used cars, so the resale prices are not good.
Elon Musk has this idea that people are going to buy them and rent them out as robo taxi’s. Would you pay $57,000 for a car and let strangers smoke pot and get laid in it? Spoiler alert, there’s NO DRIVER.
They’re too heavy, have huge tires which they blow through, are worthless in the cold, and cost a god-awful fortune to service. What’s not to like? More importantly though, Tesla trades at 114 times earnings.
What keeps tech companies in business is money printing.
Companies like Tesla and Amazon use their shares as a currency. Many have sliding scale wages, where (they claim) they cut future wages as share gains from incentive stock options make up the difference.
Others like Microsoft and META use their shares to buy their competition.
But the most egregious issue is how they account for share buybacks. If you buy a share for (say) $400 and it goes to $15, you have a capital loss. If META sells a share to the public for $15 and buys it back for $400, that’s neither a gain nor a loss. It’s simply a drop in cash and an increase in treasury stock, which is a negative equity account.
In other words, it’s the exact same transaction only executed in reverse. Every share buyback has the same effect it had in your transaction. The shareholder loses money, but since the share PRICE keeps going up, nobody cares.
Another hot button is housing. (Which I talked about in an earlier post.)
The drop in interest rates and explosion in managerial earnings have caused an explosion in house prices. At the same time the price of materials has gone way up, and their quality has collapsed.
The average house today is made of glue based particle board sheathing, matchstick quality pine framing, a roof made of petroleum sludge and plastic siding. The floors are often glue based pressed board with a wood look painted on. (I could go on, but you get the picture)
Houses used to be built to last generations today are built to last 30 years, but not all of the components last close to that long. A roof is good for 25 years with good weather. Pressed board floors, maybe 10 years, rugs less. Most housing fixtures are so cheap the boxes they come in feel empty. The average appliance lasts 7-10 years versus 30 years in the 80’s. In addition, there are swimming pools which add NO value, outdoor kitchens that last 10 years and hot tubs.
And then there’s economics.
A $1 million suburban home, on average, has a $200,000 general contractor profit and as much as $200,000 in development costs (Land, street, sewers, electric, gas) before you’ve dug the basement or put in a driveway. On other words, you’re $400,000 in the hole before you start building.
In addition, the average property tax bill on that house can run between $15,000 and $30,000 a year!!
These houses depreciate quickly, burn like a roman candle when they start on fire (because they’re made of petroleum) and cost a god-awful fortune to maintain. (One particular Home Depot we analyzed in a suburban neighborhood had sales of $1,000 for every man, woman, and child in that neighborhood PER YEAR and the houses were NEW!!!
Why does this matter?
Some of the best indicators of stock market crashes are stupid shit people think is normal. Braindead Joe Biden once said this. (When the inflation rate went from 8%, officially, to 3.5%) “Inflation is falling so we should start to see prices come down.”
In other words, the president thinks if inflation goes from up at 8% to up at 3.5% prices are going to FALL!!!! In defense of braindead Joe, Congressmen consistently say that cutting deficits is economically irresponsible. CEO’s and their business school associates call share buybacks “returning money to shareholders.”
Other things though few people see, like bank repo problems, liquidity issues in certain sectors, embedded bank losses and balance sheet problems. In fact, most trained professionals don’t see these. It’s hard not to overstay your welcome in a bubble. They’re so much fun.
The problem though is not that bubbles and crashes are hard to predict. They’re difficult to time! This is why the best hedge fund managers are billionaires.
As Mark Spitznagel once said, “90% of trained professionals can’t invest like I do.”
But the better quote was from a New York Rabbi that was a short seller. He closed his business because he said shorting stocks is too depressing.
If a Rabbi can’t handle depression what chance do we have?
But the real key is understanding when you’re investing and when you’re gambling.
The simple rule can be summed up by what Warren Buffet said when they asked him if he invested in Bitcoin. He said, “What would I do with it? If I bought it, I’d have to sell it back to whoever I bought it from.
Contrary to what modern investors think, Buffet was never a stock picker. He bought entire companies, not just their shares. When his portfolio companies made money, he got the money. ALL OF IT, not just the dividends. His last big buy was the railroad Burlington Northern Sante Fe.
Buffet saw that free trade was going to cause railroads to skyrocket. It was probably his crown jewel, after Geico.
But after that, he stopped buying companies, which was when he started buying Apple. He realized that it wasn’t worth it because companies weren’t going to give him any money, they’d just go up in price.
This is the Buffet rule.
Most companies are using debt to finance share buybacks, which are shareholder equity losses. Those that actually have earnings are using those earnings for share buybacks, more equity losses.
In my opinion, stocks could double in value but it still wouldn’t be investing.
